Last week a client asked me whether it’s possible to get a refund when you are audited by the Internal Revenue Service. I told him that it can happen: In the twelve years I’ve been practicing, I’ve had three individuals obtain refunds in an audit.
The stated goal of the IRS in an audit is for the taxpayer to be in compliance with the tax laws. When you send a tax return to the IRS, it is accepted at face value. In an audit, you have to prove that the numbers on the return are what they should be.
For a gambler this poses potential difficulties. Gamblers deal in cash, and few third-party records are kept. The IRS likes third-party records such as W-2s. If a bank states on a 1099-INT that you received $123 in interest, the IRS can usually bank on that being exactly correct. So how does a gambler satisfy the IRS?
My mother, a realtor, always says that the most important part of real estate is location, location, location. When it comes to taxes, it’s document, document, document. For live play you should keep a contemporaneous, written gambling log. Keep a pocket notebook in your jacket, and when you sit down in a game note the date, the casino/cardroom name, the game you’re playing (it can be as simple as “hold’em”), the table number, and the start time. I also include the stakes I’m playing because I use my gambling log to note my results in various games. When you’re done with your session, note the time you left the game and your overall result. If you’re playing a tournament, you don’t need to note the table number. It’s that simple.
I’m often asked if you can use an application on a smart phone. Unfortunately, the IRS does not currently accept those applications. The IRS is evaluating such applications and it’s possible that in a few years such apps will be allowed. For now, though, the IRS is an agency that lives in the last century: Keep written records of your play.
For the professional gambler, you also need to keep records of your expenses. Keep your receipts or scan them. If you play online, keep a backup of your database. All hard drives will fail; Murphy’s Law for computers states that your hard drive will fail at the least opportune moment.
In an audit, the IRS checks the records to make sure that they match what’s claimed on the tax return. If you’re audited and you cannot prove some expenses you will lose that deduction and owe additional tax and interest. Interest is statutory and cannot be avoided. If it turns out you understated your tax significantly, you can owe penalties.
However, let’s say you find that you neglected to include $1,500 of deductions on the originally filed return. Assuming you can prove these deductions—and for a business expense, they must be “ordinary and necessary”—your tax liability can go down. And if the IRS has to pay you a refund, they will pay you interest.
Keep good records and if you are unlucky enough to be audited it will be an inconvenience. Don’t keep records and an audit can be a nightmare.
Russell Fox is the co-author of “Mastering No-Limit Hold’em,” “Why You Lose at Poker,” and “Winning Strategies for No-Limit Hold’em.” He’s a federally licensed tax preparer specializing in gambling, with a blog at taxabletalk.com. E-mail Russ at email@example.com